WD-40's Rusty Q2

In doing a bit of Web surfing a couple days back, I came upon an interview that founding Fools Tom and David Gardner did for Fool Radio with CEO Garry Ridge of WD-40 (Nasdaq: WDFC).

I was surprised to find out that the makers of America's most popular spray lube -- along with good, old-fashioned 3-IN-ONE OIL -- peddled other disposable products, like Lava hand soap, Carpet Fresh, and 2000 Flushes. If you are, as I am, intrigued by any firm that can convince you to buy stuff only to immediately dump it down a sink or vacuum up, you'll be interested in taking a peek at what's going on these days.

Unfortunately, the recent second-quarter earnings report finds the company a bit rusty. Screw-ups that Ridge called "timing setbacks" and higher costs led the company to miss estimates and post earnings of $0.36 per share, a 27% drop from the prior-year period. Sales were just above flat, at $58.5 million.

The news, together with a downward revision in full-year earnings guidance, slipped the stock almost 10% early today, to near $31 a share. So, what's a Fool to do? First, take a deep breath. Next, take a look at the facts.

Much of the cost increase is coming from increased advertising activities aimed at establishing the brands for future growth. The products are well-known and sell everywhere, from big boxes like Wal-Mart (NYSE: WMT) and Target (NYSE: TGT) to the 7-Eleven (NYSE: SE) on the corner. Balance sheets are still healthy, and the firm has produced $16 million in free cash flow so far this year (substantially ahead of the $10.6 million in net income posted for the first two quarters).

Still, many of the warning signs glimpsed by Selena Maranjian last year are still in place. Sales and earnings growth is slowing, and even with the newly discounted shares going for $31, they still sell for 18 times forward estimates of $1.75. That looks rich for a pokey grower, but if we extrapolate the current FCF to around $38 million for the year, the firm's at an enterprise value-to-FCF ratio of around 14.5. That's a more reasonable-looking valuation, but still not enough of a bargain for me. For now, I'll buy the product and watch the stock.

If you're interested in eyeballing companies for the sweet flow of free cash, you might like Tom Gardner's Motley Fool Hidden Gems . Check it out free for 30 days.

Fool contributor Seth Jayson uses dental floss more than WD-40, and EV/FCF more than P/E, but just barely. He has no stake in any firm mentioned above. View his Fool profile here.